A term structure model with preferences for the timing of resolution of uncertainty (*)

Costis Skiadas, Mark Schroder and Darrell Duffie
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Costis Skiadas: J. L. Kellogg Graduate School of Management, Northwestern University, Evanston, IL 60208-2001, USA
Mark Schroder: School of Management, SUNY at Buffalo, Buffalo, NY 14260-4000, USA

Economic Theory, 1996, vol. 9, issue 1, 3-22

Abstract: In this paper we present a model of the term structure of interest rates with imperfect information and stochastic differential utility, a form of non-additive recursive utility. A principal feature of recursive utility, that distinguishes it from time-separable expected utility, is its dependence on the timing of resolution of uncertainty. In our model, we parametrize the non-linearity of recursive utility in a way that corresponds to preferences for the timing of resolution. This way we show explicitly the dependence of prices on the rate of information, as a consequence of the nature of utilities. State prices and the term structure of interest rates are obtained in closed form, and are shown to have a form in which derivative asset pricing is tractable. Comparative statics relating to the dependence of the term structure on the rate of information are also discussed.

Date: 1996
Note: Received: April 10, 1995;revised version October 10, 1995
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